How to plan your asset allocation: Q&A with an expert

Choosing your asset allocation is one of the key decisions you make as an investor. Whether you want to go all-in on equities or mix them up with some bonds and perhaps some property or alternatives is up to you. But we asked an expert, Gavin Haynes of Fairview Investing with decades of investment experience under his belt, to share his thoughts and advice.

What are the main things a retail investor needs to think about when planning their asset allocation?

The most important consideration is to really understand your attitude to risk and your investment objective. Are you investing for a long time or a short time? Are you looking for growth or income, for example?

The next step is to take a closer look at the various asset classes and their different characteristics, which determine the level of risk and potential return. It is also important to understand that they will react differently at different stages of the economic cycle. Even within asset classes, different areas will have very different characteristics. For example, government bonds are a very different investment compared to corporate high yield bonds.

Are there any common asset allocation strategies or rules of thumb that investors can refer to?

One common rule of thumb has been to invest 100% in equities minus your age and the rest in lower-risk asset classes such as bonds. But that might be changing now because people are living longer. So people who are 70 now might want to have more than 30% in equities, as they might be investing for more than ten years.

I would say the best thing to do is to look at the benchmarks used by professional investors, such as some multi-asset funds. For example, you can see how much a cautious or a balanced fund invests in each asset class. Balanced strategies will typically have half to two thirds of their money invested in equities or other risk areas, while adventurous strategies may hold over 80% or more in equity markets.

Then, at the other end of the risk spectrum, a cautious portfolio may have around a third invested in equities and higher risk areas and the rest diversified across bonds and various other lower risk asset classes, such as property, infrastructure, or gold. An investor may also wish to keep a small amount in cash, which can provide an opportunity to invest if circumstances change in markets.

Is it always good to be diversified or are there some areas where a more concentrated strategy works better?

I personally believe that it makes sense for pretty much all investors to have a well-diversified investment portfolio. It’s the cliché of not putting all your eggs in one basket. But that doesn’t mean that there can’t be some very concentrated funds within your overall portfolio, the important thing is to be diversified across all your investments. You can also be over-diversified, which would dilute the impact of your best ideas, show a lack of conviction and cause underperformance after fees.

If you invest through funds then you are already achieving some level of diversification as your money is invested across multiple assets (and potentially across industries and geographic markets, depending on the style of the fund). I have always said a portfolio of around 20 funds can provide enough diversification for investors if they are using single strategy funds.

If you don’t want to pick your own funds or decide on your asset allocation yourself, then multi-asset funds or managed funds can do a lot of the heavy lifting for you. Some research has shown that around half of all DIY investors in the UK are invested in a multi-asset fund, so you wouldn’t be the only one who is outsourcing the decision, even if it’s only for part of your portfolio.

What about concentrated funds? Should investors stay away from these?

No, people shouldn’t be afraid of funds with strong conviction in specific areas of the market. Some of the best funds hold only a small number of stocks, indicating the fund manager’s conviction in those companies and/or regions. When we are picking equity funds in a specific area for our clients, we are usually looking for managers with a high level of conviction that invest in around 20-40 stocks. After all, you are paying the manager to outperform an index. You don’t want to be paying active fees only to be investing in an over-diversified fund in a specific area of the market. You can buy this much cheaper via a tracker fund.

When does it make sense to change your asset allocation and when should you stick to your guns?

The most important thing is to not be swayed by short-term market movements, because this is likely to bring the wrong results. Remember that investing is a marathon, not a sprint.

During times of bad news, the worst thing investors can do is be tempted to sell high risk assets, as they would be selling after these assets have fallen in value. The best advice is to sit tight and not react to short-term market events. Trying to second-guess what will happen in the future is a thankless task so you shouldn’t shift your asset allocation based on what might happen in the future. Having said that, I always recommend rebalancing portfolios regularly to get back to your desired asset allocation mix. This is especially relevant when there has been a big shift in asset values.

The time it might make sense to change your asset allocation is if there has been a change in your investment objectives or your time horizon, but other than that I would recommend having conviction in your original asset allocation.

Hopefully Gavin gave you some ideas for how to think about your own asset allocation but remember that at the end of the day it is your money and your investment portfolio. And if you would rather put all your money into one asset class, then that’s fine, just try to be diversified within that asset class. Another option is to consider a multi-asset fund, at least until you have formed a stronger view.

Date of publication: 24th August 2020

Date of revisions: 8th February 2023